SE Machinery Pty Ltd (SEM)

When the customer contributed $500,000 as capital contribution to SEM in May 2011, it appeared in the books as part of the Equity or Capital Account and reported as part of the gross profit by yearend which ended June 2012…

Introduction

When the customer contributed $500,000 as capital contribution to SEM in May 2011, it appeared in the books as part of the Equity or Capital Account and reported as part of the gross profit by yearend which ended June 2012.. In such a transaction wherein actual cash was received and SEM chose to recognize the cash inflow as capital, the tax law provides that this be considered as ordinary income. Division 6 – Assessable Income and Exempt Income, Section 6.5, states that Australian residents’ ordinary income are assessed whether derived from within Australia or outside, including those derived indirectly or directly “from all sources” (Australian Parliament 1997, Section 6.5). As Flynn, M.(2009, p.171) had stated, “The second test is to ask whether the receipt represents a flow produced by an item of capital. If it does, the receipt is revenue.” B. However, the Arthur Murray principle will apply for the prepayment. According to Kater, E. (2009), under that principle, income is generally not derived until after services or products have been delivered, except in a situation wherein there may not be a refund of prepayment according to a contract. There was no contract which specifically stated there can be no refund under certain conditions. Income was recognized in June 2012 even though products were yet to be delivered in August 2012. The prepayments were recognized as revenue so that the gross profit includes the value of that prepaid order. ...

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